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On Aid and Growth: Reflections ahead of Busan

Finn Tarp / Oct 2011

Not a month goes by without some sort of bad news about foreign aid. Examples of incompetence, abuse of funds by corrupt leaders, and distorted incentives abound. These stories fuel a deep scepticism of foreign aid. In this view, perverse effects dominate—and end up weakening, rather than encouraging, growth and development. If one accepts this view, then it is logical to turn off the poisoned tap of foreign aid. But are such views well founded?

Aid and growth

The answer is no. First, take a look at the large literature that has over the years suggested that aid is impotent at the macroeconomic level because the aid–growth parameter was found to be statistically insignificant. We teach our students that statistical insignificance should be interpreted as ‘absence of evidence’ not as ‘evidence of absence’ (see J. Temple in his Chapter 67 of Volume 5 of the Handbook of Development Economics). The same standard should be applied to academic papers and policy debates.

Second, a series of carefully executed up-to-date studies carried out by UNU-WIDER under the ReCom Growth & Employment theme show that the aggregate impact of aid on growth corresponds pretty well to the positive result one would expect from economic theory. Take a look at the following:

These four studies rely on different analytical methodologies, but throughout the results stand in contrast to the gloom that circulates in the media. There is a statistically significant impact of aid on growth over the long run.

Checking the evidence

A rising ‘noise level’ has afflicted the aid debate in recent years, with too little attention being devoted to existing evidence, and too much to rhetoric. This is a pity. Policy makers are well advised to take a careful look at the evidence from well-designed analytical studies. They should also keep in mind that no well-informed individual believes that aid has been beneficial in all places at all times. This does not, however, undermine the case for the principles underlying aid. Rather it points to a need for redoubling our efforts to learn what works and could work—a central objective of ReCom and the UNU-WIDER research that underpins it. The lessons of failure as well as success must be incorporated into aid strategies and practices.

Finn Tarp is Director of UNU-WIDER, and Professor of Development Economics University of Copenhagen.